UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


Washington,
D.C. 20549







FORM
10-Q





x
            QUARTERLY
      REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934




For
the quarterly period ended September 30, 2009





OR





o
              TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF
      1934





For
the transition period from ___________ to ___________.





Commission
file number: 1-16027







LANTRONIX,
INC.


(Exact
name of registrant as specified in its charter)





Delaware
            33-0362767(State
      or other jurisdiction
            (I.R.S.
      Employerof
      incorporation or organization)
            Identification
      No.)





15353
Barranca Parkway, Irvine, California


(Address
of principal executive offices)





92618


(Zip
Code)










(949)
453-3990


(Registrant’s
telephone number, including area code)





Former
name, former address and former fiscal year, if changed since last
report:  N/A





Indicate
by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days.  Yes S No £





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes o No o





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definition of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.  (Check
one):




Large accelerated
      filer o
            Accelerated filer
      o
            Non-accelerated
      filer o
            Smaller reporting
      company x(do not check if a
      smaller reporting company)




Indicate
by check mark whether the registrant is a shell company (as defined by Rule
12b-2 of the Exchange Act).  Yes o No x.





As of
November 9, 2009, 61,740,460, shares of the Registrant’s common stock were
outstanding.


LANTRONIX,
INC.





FORM
10-Q


FOR
THE FISCAL QUARTER ENDED


September
30, 2009





INDEX





PagePART
      I.
            FINANCIAL
      INFORMATION
            
            1Item
      1.
            Financial
      Statements.
            
            1Unaudited
      Condensed Consolidated Balance Sheets at September 30, 2009 and June 30,
      2009
            
            1Unaudited
      Condensed Consolidated Statements of Operations for the Three Months EndedSeptember 30, 2009 and 2008
            
            2Unaudited
      Condensed Consolidated Statements of Cash Flows for the Three Months EndedSeptember 30, 2009 and 2008
            
            3Notes
      to Unaudited Condensed Consolidated Financial Statements.
            
            4Item
      2.
            Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
            
            9Item
      4.
            Controls
      and
      Procedures.
            
            17PART
      II.
            OTHER
      INFORMATION
            
            17Item
      1.
            Legal
      Proceedings
            
            17Item
      1A.
            Risk
      Factors
            
            17Item
      2.
            Unregistered
      Sales of Equity Securities and Use of Proceeds.
            
            25Item
      3.
            Defaults
      Upon Senior Securities
            
            26Item
      4.
            Submission
      of Matters to a Vote of Security Holders
            
            26Item
      5.
            Other
      Information
            
            26Item
      6.
            Exhibits
            
            26











PART
I. FINANCIAL INFORMATION




Item
1.  Financial Statements




LANTRONIX,
      INC.UNAUDITED
      CONDENSED CONSOLIDATED BALANCE SHEETS(In
      thousands)September
      30,
              
              
              June
      30,2009
              
              
              2009AssetsCurrent
      assets:Cash
      and cash equivalents
              
              $
              9,120
              
              
              $
              9,137Accounts
      receivable, net
              
              
              1,665
              
              
              
              1,851Contract
      manufacturers' receivable
              
              
              683
              
              
              
              655Inventories,
      net
              
              
              6,103
              
              
              
              6,479Prepaid
      expenses and other current assets
              
              
              603
              
              
              
              529Total
      current assets
              
              
              18,174
              
              
              
              18,651Property
      and equipment, net
              
              
              2,407
              
              
              
              2,230Goodwill
              
              
              9,488
              
              
              
              9,488Purchased
      intangible assets, net
              
              
              237
              
              
              
              265Other
      assets
              
              
              136
              
              
              
              122Total
      assets
              
              $
              30,442
              
              
              $
              30,756Liabilities
      and stockholders' equityCurrent
      liabilities:Accounts
      payable
              
              $
              5,797
              
              
              $
              5,626Accrued
      payroll and related expenses
              
              
              1,123
              
              
              
              1,414Warranty
      reserve
              
              
              224
              
              
              
              224Restructuring
      reserve
              
              
              31
              
              
              
              76Short-term
      debt
              
              
              667
              
              
              
              667Other
      current liabilities
              
              
              3,194
              
              
              
              3,221Total
      current liabilities
              
              
              11,036
              
              
              
              11,228Non-current
      liabilities:Long-term
      liabilities
              
              
              108
              
              
              
              117Long-term
      capital lease obligations
              
              
              363
              
              
              
              309Long-term
      debt
              
              
              611
              
              
              
              778Total
      non-current liabilities
              
              
              1,082
              
              
              
              1,204Total
      liabilities
              
              
              12,118
              
              
              
              12,432Commitments
      and contingenciesStockholders'
      equity:Common
      stock
              
              
              6
              
              
              
              6Additional
      paid-in capital
              
              
              190,031
              
              
              
              189,579Accumulated
      deficit
              
              
              (172,186
              )
              
              
              (171,687
              )Accumulated
      other comprehensive income
              
              
              473
              
              
              
              426Total
      stockholders' equity
              
              
              18,324
              
              
              
              18,324Total
      liabilities and stockholders' equity
              
              $
              30,442
              
              
              $
              30,756





See
accompanying notes.


1





LANTRONIX,
      INC.UNAUDITED
      CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS(In
      thousands, except per share data)Three
      Months EndedSeptember
      30,2009
              
              
              2008Net
      revenue (1)
              
              $
              10,954
              
              
              $
              14,212Cost
      of revenue
              
              
              5,237
              
              
              
              6,688Gross
      profit
              
              
              5,717
              
              
              
              7,524Operating
      expenses:Selling,
      general and administrative
              
              
              4,620
              
              
              
              5,208Research
      and development
              
              
              1,485
              
              
              
              1,503Restructuring
      charges
              
              
              -
              
              
              
              593Amortization
      of purchased intangible assets
              
              
              18
              
              
              
              18Total
      operating expenses
              
              
              6,123
              
              
              
              7,322Income
      (loss) from operations
              
              
              (406
              )
              
              
              202Interest
      expense, net
              
              
              (47
              )
              
              
              (26
              )Other
      income (expense), net
              
              
              (36
              )
              
              
              22Income
      (loss) before income taxes
              
              
              (489
              )
              
              
              198Provision
      for income taxes
              
              
              10
              
              
              
              14Net
      income (loss)
              
              $
              (499
              )
              
              $
              184Net
      income (loss) per share (basic)
              
              $
              (0.01
              )
              
              $
              0.00Net
      income (loss) per share (diluted)
              
              $
              (0.01
              )
              
              $
              0.00Weighted-average
      shares (basic)
              
              
              60,992
              
              
              
              60,374Weighted-average
      shares (diluted)
              
              
              60,992
              
              
              
              60,448(1)  Includes
      net revenue from related party
              
              $
              125
              
              
              $
              254






See
accompanying notes.


2




LANTRONIX,
      INC.UNAUDITED
      CONSOLIDATED STATEMENTS OF CASH FLOWS(In
      thousands)Three
      Months EndedSeptember
      30,2009
              
              
              2008Operating
      activitiesNet
      loss (Income)
              
              $
              (499
              )
              
              $
              184Adjustments
      to reconcile net loss (income) to net cash provided by (used in) operating
      activities:Share-based
      compensation
              
              
              559
              
              
              
              323Restructuring
      charge
              
              
              -
              
              
              
              593Depreciation
              
              
              193
              
              
              
              178(Recovery)
      provision for inventories
              
              
              (30
              )
              
              
              4Amortization
      of purchased intangible assets
              
              
              28
              
              
              
              30Recovery
      of doubtful accounts
              
              
              (5
              )
              
              
              (40
              )Changes
      in operating assets and liabilities:Accounts
      receivable
              
              
              191
              
              
              
              1,273Contract
      manufacturers' receivable
              
              
              (28
              )
              
              
              (69
              )Inventories
              
              
              406
              
              
              
              (67
              )Prepaid
      expenses and other current assets
              
              
              11
              
              
              
              (111
              )Other
      assets
              
              
              (14
              )
              
              
              (20
              )Accounts
      payable
              
              
              172
              
              
              
              (1,320
              )Accrued
      payroll and related expenses
              
              
              (313
              )
              
              
              (808
              )Warranty
      reserve
              
              
              -
              
              
              
              7Restructuring
      reserve
              
              
              (45
              )
              
              
              (682
              )Other
      liabilities
              
              
              (152
              )
              
              
              (276
              )Net
      cash provided by (used in) operating activities
              
              
              474
              
              
              
              (801
              )Investing
      activitiesPurchases
      of property and equipment, net
              
              
              (205
              )
              
              
              (214
              )Net
      cash used in investing activities
              
              
              (205
              )
              
              
              (214
              )Financing
      activitiesProceeds
      from term loan
              
              
              -
              
              
              
              2,000Minimum
      tax withholding paid on behalf of employees for restricted
      shares
              
              
              (257
              )
              
              
              -Payment
      of term loan
              
              
              (166
              )
              
              
              (55
              )Net
      proceeds from issuances of common stock
              
              
              150
              
              
              
              82Payment
      of capital lease obligations
              
              
              (67
              )
              
              
              (91
              )Net
      cash (used in) provided by financing activities
              
              
              (340
              )
              
              
              1,936Effect
      of foreign exchange rate changes on cash
              
              
              54
              
              
              
              (138
              )Increase
      (decrease) in cash and cash equivalents
              
              
              (17
              )
              
              
              783Cash
      and cash equivalents at beginning of period
              
              
              9,137
              
              
              
              7,434Cash
      and cash equivalents at end of period
              
              $
              9,120
              
              
              $
              8,217


3





LANTRONIX,
INC.





NOTES
TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS





September
30, 2009





1.
            Basis
      of Presentation





The
accompanying unaudited condensed consolidated financial statements of Lantronix,
Inc. (the “Company” or “Lantronix”) have been prepared by the Company in
accordance with generally accepted accounting principles (“GAAP”) for interim
financial information and in accordance with the instructions to Form 10-Q and
Article 10 of Regulation S-X.  Accordingly, they should be read
in conjunction with the audited consolidated financial statements and notes
thereto for the fiscal year ended June 30, 2009, included in the Company’s
Annual Report on Form 10-K filed with the Securities and Exchange Commission
(“SEC”) on September 28, 2009. They contain all normal recurring accruals and
adjustments which, in the opinion of management, are necessary to present fairly
the consolidated financial position of the Company at September 30, 2009, and
the consolidated results of its operations and cash flows for the three months
ended September 30, 2009 and 2008. All intercompany accounts and
transactions have been eliminated. It should be understood that accounting
measurements at interim dates inherently involve greater reliance on estimates
than at year-end. The results of operations for the three months ended September
30, 2009 are not necessarily indicative of the results to be expected for the
full year or any future interim periods.




In
June 2009 the Financial Accounting Standards Board (“FASB”) established the
Accounting Standards Codification, or Codification, as the source of
authoritative GAAP recognized by the FASB. The Codification is effective in the
first interim and annual periods ending after September 15, 2009 and had no
effect on our unaudited condensed consolidated financial
statements.





2.
            Computation
      of Net Income (Loss) per Share





Basic and
diluted net income (loss) per share is calculated by dividing net income (loss)
by the weighted-average number of common shares outstanding during the
year.




The
following table presents the computation of net income (loss) per
share:




Three
      Months EndedSeptember
      30,2009
              
              
              2008(In
      thousands,except
      per share data)Numerator:Net
      income (loss)
              
              $
              (499
              )
              
              $
              184Denominator:Weighted-average
      shares outstanding
              
              
              63,111
              
              
              
              62,695Less:
      Unvested common shares outstanding
              
              
              (2,119
              )
              
              
              (2,321
              )Weighted-average
      shares (basic)
              
              
              60,992
              
              
              
              60,374Effect
      of dilutive securities:Unvested
      common shares outstanding
              
              
              -
              
              
              
              -Stock
      options
              
              
              -
              
              
              
              74Denominator
      for net income (loss) per share (diluted)
              
              
              60,992
              
              
              
              60,448Net
      income (loss) per share (basic)
              
              $
              (0.01
              )
              
              $
              0.00Net
      income (loss) per share (diluted)
              
              $
              (0.01
              )
              
              $
              0.00





The
following table presents the common stock equivalents excluded from the diluted
net income (loss) per share calculation, because they were anti-dilutive as of
such dates. These excluded common stock equivalents that could be dilutive in
the future.




4




Three
      Months EndedSeptember
      30,2009
              
              
              2008(In
      thousands)Common
      stock equivalents
              
              
              8,332
              
              
              
              8,887





3.
            Inventories





Inventories
are stated at the lower of cost (first-in, first-out) or market and consist of
the following:




September
      30,
              
              
              June
      30,2009
              
              
              2009(In
      thousands)Finished
      goods
              
              $
              4,130
              
              
              $
              4,421Raw
      materials
              
              
              1,474
              
              
              
              1,537Inventory
      at distributors
              
              
              1,368
              
              
              
              1,355Large
      scale integration chips *
              
              
              841
              
              
              
              909Inventories,
      gross
              
              
              7,813
              
              
              
              8,222Reserve
      for excess and obsolete inventory
              
              
              (1,710
              )
              
              
              (1,743
              )Inventories,
      net
              
              $
              6,103
              
              
              $
              6,479*
      This item is sold individually and embedded into the Company's
      products.




4.
            Warranty





Upon
shipment to its customers, the Company provides for the estimated cost to repair
or replace products to be returned under warranty. The Company’s products
typically carry a one- or two-year warranty. Although the Company engages in
extensive product quality programs and processes, its warranty obligation is
affected by product failure rates, use of materials or service delivery costs
that differ from the Company’s estimates. As a result, additional warranty
reserves could be required, which could reduce gross margins. Additionally, the
Company sells extended warranty services, which extend the warranty period for
an additional one to three years depending upon the product.





The
following table is a reconciliation of the changes to the product warranty
liability for the periods presented:




Three
      Months
                Ended
              
              
              Year
      EndedSeptember
      30,
              
              
              June
      30,2009
              
              
              2009(In
      thousands)Beginning
      balance
              
              $
              224
              
              
              $
              342Charged
      to cost of revenues
              
              
              63
              
              
              
              116Usage
              
              
              (63
              )
              
              
              (234
              )Ending
      balance
              
              $
              224
              
              
              $
              224




5.
            Restructuring
      Reserve





During
the fourth fiscal quarter ended June 30, 2008, the Company implemented a
restructuring plan to optimize its organization to better leverage existing
customer and partner relationships in order to drive revenue growth and
profitability. As part of the restructuring plan, 10 employees from the
senior-level ranks of the sales, marketing, operations and engineering groups
were terminated. During the first fiscal quarter ended September 30, 2008,
the Company implemented a second restructuring plan. As part of the second
restructuring plan, an additional 29 employees from all ranks and across
all functional groups of the Company were terminated. During the second
fiscal quarter ended December 31, 2008, the Company incurred additional
restructuring charges related to the termination of a senior-level employee and
closure of a sales office in France. During the fourth fiscal quarter ended June
30, 2009, the Company incurred restructuring charges related to the
consolidation of its corporate headquarters.




5




The following table presents a summary
of the activity in the Company’s restructuring reserve:




Facilities
              
              
              Severance
              
              
              TotalTermination
              
              
              Related
              
              
              RestructuringCosts
              
              
              Costs
              
              
              Costs(In
      thousands)Restructuring
      reserve at June 30, 2009
              
              $
              73
              
              
              $
              3
              
              
              $
              76Restructuring
      charge
              
              
              -
              
              
              
              -
              
              
              
              -Cash
      payments
              
              
              (43
              )
              
              
              (2
              )
              
              
              (45
              )Restructuring
      reserve at September 30, 2009
              
              $
              30
              
              
              $
              1
              
              
              $
              31


6.
            Bank
      Line of Credit and Debt





In August
2008, the Company entered into an Amendment to Loan and Security Agreement,
which provides for a three-year $2.0 million Term Loan and a two-year $3.0
million Revolving Credit Facility (the “Term Loan and Revolving Credit Facility”
or “Loan Agreement”). The Term Loan was funded on August 26, 2008 and is payable
in 36 equal installments of principal and monthly accrued interest. There are no
borrowings outstanding on the Revolving Credit Facility as of the fiscal quarter
end.





Borrowings
under the Term Loan and Revolving Credit Facility bear interest at the greater
of 6.25% or prime rate plus 1.25% per annum. If the Company achieves two
consecutive quarters of positive EBITDAS (as defined in the Loan Agreement)
greater than $1.00, and only for so long as the Company maintains EBITDAS
greater than $1.00 at the end of each subsequent fiscal quarter, then the
borrowings under the Term Loan and Revolving Credit Facility will bear interest
at the greater of 5.75% or prime rate plus 0.75% per annum. Upon entering into
the agreement, the Company paid a fully earned, non-refundable commitment fee of
$35,000 and paid an additional $35,000 on the first anniversary of the effective
date of the Term Loan.





The
following table presents our available borrowing capacity and outstanding
letters of credit, which were used to secure equipment leases, purchase of
materials, deposits for a building lease and security deposits:




September
      30,
              
              
              June
      30,2009
              
              
              2009(In
      thousands)Available
      borrowing capacity
              
              $
              289
              
              
              $
              426Outstanding
      letters of credit
              
              $
              971
              
              
              $
              732


7.
            Stockholders’
      Equity





Share-Based
Compensation





The
Company has one active share-based plan under which non-qualified and incentive
stock options have been granted to employees, non-employees and its board of
directors. In addition, the Company has granted restricted stock awards to
employees and its board of directors under this share-based plan. The board of
directors determines eligibility, vesting schedules and exercise prices for
options and restricted stock awards granted under the plans. The Company issues
new shares to satisfy stock option exercises, restricted stock grants, and stock
purchases under its share-based plans.





On August
18, 2009, eligible employees were granted awards of options to purchase common
stock under the Company’s Long Term Incentive Plan (“LTIP”). Under the
terms of the LTIP, eligible employees will receive a total of 4,074,226 options
to purchase common shares. 25% of the options vest on September 1, 2010, and an
additional 25% of the options vest each year thereafter, all subject to the
recipients’ continued employment. The LTIP option awards were made from the
Company’s 2000 Stock Plan. The exercise price was equal to the fair market value
of the Company’s common stock on the date of grant as listed on the Nasdaq
Capital Market.





The
Company has previously erroneously reported on a Form 8-K dated September 15,
2009 that Jerry D. Chase, President and Chief Executive Officer and Reagan Y.
Sakai, Chief Financial Officer and Secretary were granted 780,898 and 451,909
options, respectively, to purchase common stock under the Company's LTIP
plan. The correct number of options granted on September 15, 2009 for Mr.
Chase and Mr. Sakai were 460,346 and 266,404, respectively. The options 25% vest
on September 1, 2010, and an additional 25% of the options vest each year
thereafter, all subject to the recipients' continued employment. The LTIP option
awards were made from the Company's 2000 Stock Plan. The exercise price was
equal to the fair market value of the Company's common stock on the date of
grant as listed on the Nasdaq Capital Market.




6




The board
of directors has approved a performance plan for the fiscal year ended June 30,
2010 (“Performance Plan”), which will be paid in vested common shares if minimum
revenue, non-GAAP income and management objectives are met.  As of
September 30, 2009, the Company estimated it was at approximately 10% attainment
per the Performance Plan which would result in an expense to share-based
compensation of approximately $446,000 for the fiscal year ending June 30,
2010.  During the three months ended September 30, 2009, the Company
recorded $112,000 to share-based compensation in connection with this
Performance Plan.




The
following table presents a summary of option activity under all of the Company’s
stock option plans:




Number
      ofSharesBalance
      of options outstanding at June 30, 2009
              
              
              7,672,586Options
      granted
              
              
              5,029,476Options
      forfeited
              
              
              (69,678
              )Options
      expired
              
              
              (394,009
              )Options
      exercised
              
              
              (300,000
              )Balance
      of options outstanding at September 30, 2009
              
              
              11,938,375




The
following table presents stock option grant date information:




Three
      Months EndedSeptember
      30,2009
              
              
              2008Weighted-average
      grant date fair value per share
              
              $
              0.31
              
              
              $
              0.43Weighted-average
      grant date exercise price per share
              
              $
              0.43
              
              
              $
              0.62




The
following table presents a summary of restricted stock activity:




WeightedAverageNumber
      of
              
              
              Grant
      - DateShares
              
              
              Fair
      ValueBalance
      of restricted shares at June 30, 2009
              
              
              2,832,397
              
              
              $
              0.52Granted
              
              
              -
              
              
              
              -Forfeited
              
              
              (80,065
              )
              
              
              0.50Vested
              
              
              (633,635
              )
              
              
              0.51Balance
      of restricted shares at September 30, 2009
              
              
              2,118,697
              
              
              $
              0.52




The
following table presents a summary of the total fair value of shares vested for
all of the Company’s restricted share awards:




Three
      Months EndedSeptember
      30,2009
              
              
              2008(In
      thousands)Fair
      value of shares vested
              
              $
              348
              
              
              $
              -


7




The following table presents a summary
of remaining unrecognized share-based compensation by the vesting condition for
the Company’s share-based plans:




RemainingUnrecognized
              
              
              RemainingCompensation
              
              
              YearsVesting
      Condition
              
              Cost
              
              
              To
      Vest(In
      thousands)Stock
      Option Awards:Service
      based
              
              $
              2,277Market
      and service based
              
              
              661Stock
      option awards
              
              $
              2,938
              
              
              
              2.8Restricted
      Stock Awards:Service
      based
              
              
              954Market
      and service based
              
              
              43Restricted
      stock awards
              
              $
              997
              
              
              
              2.7


The following table presents a summary
of share-based compensation by functional line item:





Three
      Months EndedSeptember
      30,2009
              
              
              2008(In
      thousands)Cost
      of revenues
              
              $
              9
              
              
              $
              12Selling,
      general and administrative
              
              
              423
              
              
              
              229Research
      and development
              
              
              127
              
              
              
              82Total
      share-basd compensation
              
              $
              559
              
              
              $
              323





Warrants
to Purchase Common Stock





During
March 2008, the Company distributed warrants to purchase 1,079,615 shares of
Lantronix common stock as consideration for settlement of a shareholder lawsuit.
The warrants have a contractual life of four years and a strike price of
$4.68.





8.
            Income
      Taxes




At July
1, 2009, the Company’s fiscal 2002 through fiscal 2009 tax years remain open to
examination by the Federal and state taxing authorities. The Company has net
operating losses (“NOLs”) beginning in fiscal 2002 which cause the statute of
limitations to remain open for the year in which the NOL was
incurred.




The
Company utilizes the liability method of accounting for income taxes. The
following table presents the Company’s effective tax rates based upon the income
tax provision for the periods shown:





Three
      Months EndedSeptember
      30,2009
              
              
              2008Effective
      tax rate
              
              
              2%
              
              
              
              7%




8




The
federal statutory rate was 34% for all periods. The difference between the
Company’s effective tax rate and the federal statutory rate resulted primarily
from the effect of its domestic losses recorded with a fully reserved tax
benefit, as well as the effect of foreign earnings taxed at rates differing from
the federal statutory rate.





9.
            Comprehensive
      Income (Loss)





The
components of comprehensive income (loss) are as follows:





Three
      Months EndedSeptember
      30,2009
              
              
              2008(In
      thousands)Net
      income (loss)
              
              $
              (499
              )
              
              $
              184Other
      comprehensive income (loss):Change
      in translation adjustments, net of taxes of $0
              
              
              47
              
              
              
              (96
              )Total
      comprehensive income (loss)
              
              $
              (452
              )
              
              $
              88





10.
            Litigation





From time
to time, the Company is subject to legal proceedings and claims in the ordinary
course of business. Except as discussed below, the Company is currently not
aware of any such legal proceedings or claims that it believes will have,
individually or in the aggregate, a material adverse effect on its business,
prospects, financial position, operating results or cash flows.




During
2006, the Company concluded multiple securities lawsuits and litigation with a
former executive officer. The Company may have an obligation to continue to
indemnify the former executive officer and defend him in the litigation
regarding the securities violation with which he has been charged. As of
September 30, 2009, the Company had $118,000 of reimbursable legal expenses
recorded as a liability on its consolidated balance sheet.  A
receivable for the insurance reimbursement has been recorded for the same
amount.





11.
            Subsequent
      Events





The
Company has evaluated subsequent events through November 11, 2009, which is the
date the Company filed its Quarterly Report on Form 10-Q for first fiscal
quarter ending September 30, 2009 with the Securities and Exchange Commission.
There are no further subsequent events for disclosure.





Item
      2.
            Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations





Cautionary
Statement
 
 You should read the following
discussion and analysis in conjunction with our unaudited condensed consolidated
financial statements and the related notes thereto contained elsewhere in this
Quarterly Report on Form 10-Q.  The information contained in this
Report is not a complete description of our business. We urge you to carefully
review and consider the various disclosures made by us in this Report and in our
other reports filed with the Securities and Exchange Commission (“SEC”),
including our Annual Report on Form 10-K for the fiscal year ended
June 30, 2009 and subsequent reports on our Current Reports on Form
8-K.
  This
Report contains forward-looking statements which include, but are not limited
to, statements concerning projected net revenues, expenses, gross profit and net
income (loss), the need for additional capital, market acceptance of our
products, our ability to achieve further product integration, the status of
evolving technologies and their growth potential and our production capacity.
Among these forward-looking statements are statements regarding a potential
decline in net revenue from non-core product lines, potential variances in
quarterly operating expenses, the adequacy of existing resources to meet cash
needs, some reduction in the average selling prices and gross margins of
products, need to incorporate software from third-party vendors and open source
software in our future products and the potential impact of an increase in
interest rates or fluctuations in foreign exchange rates on our financial
condition or results of operations. These forward-looking statements are based
on our current expectations, estimates and projections about our industry, our
beliefs and certain assumptions made by us. Words such as “anticipates,”
“expects,” “intends,” “plans,” “believes,” “seeks,” “estimates,” “may,” “will”
and variations of these words or similar expressions are intended to identify
forward-looking statements. In addition, any statements that refer to
expectations, projections or other characterizations of future events or
circumstances, including any underlying assumptions, are forward-looking
statements. These statements are not guarantees of future performance and are
subject to certain risks, uncertainties and assumptions that are difficult to
predict. Therefore, our actual results could differ materially and adversely
from those expressed in any forward-looking statements as a result of various
factors, including but not limited to those identified under the heading “Risk
Factors” set forth in Part II, Item 1A hereto. We undertake no obligation to
revise or update publicly any forward-looking statements for any reason.




9




Overview





We
design, develop and market devices that make it possible to access, manage,
control and configure electronic products over the Internet or other networks.
We are a leader in providing innovative networking solutions. We were initially
formed as “Lantronix,” a California corporation, in June 1989. We reincorporated
as “Lantronix, Inc.,” a Delaware corporation, in May 2000.





We have a
history of providing devices that enable information technology (“IT”) equipment
to network using standard protocols for connectivity, including Ethernet and
wireless. Our first device was a terminal server that allowed ASCII terminals to
connect to a network. Building on the success of our terminal servers, in 1991
we introduced a complete line of print servers that enabled users to
inexpensively share printers over a network. Since then, we have continually
refined our core technology and have developed additional innovative networking
solutions that expand upon the business of providing our customers network
connectivity. With the expansion of networking and the Internet, our technology
focus has been increasingly expanded beyond IT equipment, so that our device
solutions provide a product manufacturer with the ability to network its
products within the industrial, service and commercial markets referred to as
machine-to-machine (“M2M”) networking.





The
following describes our M2M device networking product lines:





·
              Device Enablement (DeviceLinx) – We offer
      an array of embedded and external device enablement solutions that enable
      integrators and manufacturers of electronic and electro-mechanical
      products to add network connectivity, manageability and control. Our
      customers’ products emanate from a wide variety of applications within the
      M2M market, from blood analyzers that relay critical patient information
      directly to a hospital’s information system, to simple devices such as
      time clocks, allowing the user to obtain information from these devices
      and to improve how they are managed and controlled. We also offer
      products such as multi-port device servers that enable devices outside the
      data center to effectively share the costs of the network connection and
      convert various protocols to industry standard interfaces such as Ethernet
      and the Internet.





·
              Device Management (SecureLinx
      and ManageLinx)–We
      offer off-the-shelf appliances such as console servers, digital remote
      keyboard, video, mouse extenders, and power control products that enable
      IT professionals to remotely connect, monitor and control network
      infrastructure equipment, distributed branch office equipment and large
      groups of servers using highly secure out-of-band management
      technology. In addition, our ManageLinx solution provides secure
      remote Internet access to virtually any piece of IP-enabled equipment,
      including our DeviceLinx products – even behind remote firewalls or
      virtual private networks.





The
following describes our non-core product line:





·
              Non-core – Over the
      years, we have innovated or acquired various product lines that are no
      longer part of our primary, core markets described above. In general,
      these non-core product lines represent decreasing markets and we minimize
      research and development in these product lines. Included in this category
      are terminal servers, visualization solutions, legacy print servers,
      software and other miscellaneous products. We have announced the
      end-of-life for almost all of our non-core products and expect a steep
      decline in non-core revenues in fiscal 2010 while we complete the exit of
      this product category.


Financial
Highlights and Other Information for the Fiscal Quarter Ended September 30,
2009





The
following is a summary of the key factors and significant events that impacted
our financial performance during the fiscal quarter ended September 30,
2009:





·
                Net
      revenue was $11.0 million for the fiscal quarter ended September 30, 2009,
      a decrease of $3.3 million or 22.9%, compared to $14.2 million for
      the fiscal quarter ended September 30, 2008. The decrease was primarily
      the result of a $2.8 million, or 20.6%, decrease in our device networking
      product lines and a $470,000, or 69.0%, decrease in our non-core product
      lines.


10


·
                Gross
      profit margin was 52.2% for the fiscal quarter ended September 30, 2009,
      compared to 52.9% for the fiscal quarter ended September 30,
      2008.  The decrease in gross profit margin percent was primarily
      attributable to product mix during the
quarter.





·
                Loss
      from operations was $406,000 for the fiscal quarter ended September 30,
      2009, compared to income from operations of $202,000 for the fiscal
      quarter ended September 30,
2008.





·
                Net
      loss was $499,000, or $0.01 per basic and diluted share, for the
      fiscal quarter ended September 30, 2009, compared to net income of
      $184,000, or $0.00 per basic and diluted share, for the fiscal
      quarter ended September 30,
2008.





·
                Cash
      and cash equivalents remained consistent at $9.1 million as of September
      30, 2009 and June 30,
2009.





·
              Net
      accounts receivable were $1.7 million as of September 30, 2009, a
      decrease of $186,000, compared to $1.9 million as of June 30, 2009.
      Days sales outstanding (“DSO”) in receivables were 14 days for the
      fiscal quarter ended September 30, 2009 compared to 22 days for the
      fiscal quarter ended June 30, 2009. Our accounts receivable and DSO are
      primarily affected by the timing of shipments within a quarter, our
      collections performance and the fact that a significant portion of our
      revenues are recognized on a sell-through basis (upon shipment from
      distributor inventories rather than as goods are shipped to
      distributors).





·
              Net
      inventories were $6.1 million as of September 30, 2009, compared to
      $6.5 million as of June 30, 2009. Inventory turns were 3.3 turns for
      the fiscal quarter ended September 30, 2009, compared to 3.2 turns
      for the fiscal quarter ended June 30,
2009.





Critical
Accounting Policies and Estimates





The
accounting policies that have the greatest impact on our financial condition and
results of operations and that require the most judgment are those relating to
revenue recognition, warranty reserves, allowance for doubtful accounts,
inventory valuation, valuation of deferred income taxes, and goodwill. These
policies are described in further detail in our Annual Report on Form 10-K for
the fiscal year ended June 30, 2009. There have been no significant changes in
our critical accounting policies and estimates during the fiscal quarter ended
September 30, 2009 as compared to what was previously disclosed in our Annual
Report on Form 10-K for the fiscal year ended June 30, 2009.





Recent
Accounting Pronouncements





In
September 2009 the FASB reached a consensus on Accounting Standards Update
(“ASU”), 2009-13, Revenue
Recognition (Topic 605) – Multiple-Deliverable Revenue Arrangements (“ASU
2009-13”) and ASU 2009-14, Software (Topic 985) – Certain
Revenue Arrangements That Include Software Elements(“ASU 2009-14”). ASU
2009-13 modifies the requirements that must be met for an entity to recognize
revenue from the sale of a delivered item that is part of a multiple-element
arrangement when other items have not yet been delivered. ASU 2009-13 eliminates
the requirement that all undelivered elements must have either: i)
vendor-specific objective evidence (“VSOE”) or ii) third-party evidence (“TPE”)
before an entity can recognize the portion of an overall arrangement
consideration that is attributable to items that already have been delivered. In
the absence of VSOE or TPE of the standalone selling price for one or more
delivered or undelivered elements in a multiple-element arrangement, entities
will be required to estimate the selling prices of those elements. Overall
arrangement consideration will be allocated to each element (both delivered and
undelivered items) based on their relative selling prices, regardless of whether
those selling prices are evidenced by VSOE or TPE or are based on the entity’s
estimated selling price. The residual method of allocating arrangement
consideration has been eliminated. ASU 2009-14 modifies the software revenue
recognition guidance to exclude from its scope tangible products that contain
both software and non-software components that function together to deliver a
product’s essential functionality. These new updates are effective for revenue
arrangements entered into or materially modified in fiscal years beginning on or
after June 15, 2010. Early adoption is permitted. We are currently
evaluating the impact that the adoption of these ASUs will have on our
consolidated financial statements.





11





Consolidated
Results of Operations





The
following table presents the percentage of net revenues represented by each item
in our condensed consolidated statement of operations:




Three
      Months EndedSeptember
      30,2009
              
              
              2008Net
      revenues
              
              
              100.0%
              
              
              
              100.0%Cost
      of revenues
              
              
              47.8%
              
              
              
              47.1%Gross
      profit
              
              
              52.2%
              
              
              
              52.9%Operating
      expenses:Selling,
      general and administrative
              
              
              42.2%
              
              
              
              36.6%Research
      and development
              
              
              13.6%
              
              
              
              10.6%Restructuring
      charges
              
              
              0.0%
              
              
              
              4.2%Amortization
      of purchased intangible assets
              
              
              0.2%
              
              
              
              0.1%Total
      operating expenses
              
              
              55.9%
              
              
              
              51.5%Income
      (loss) from operations
              
              
              (3.7%)
              
              
              
              1.4%Interest
      expense, net
              
              
              (0.4%)
              
              
              
              (0.2%)Other
      income (expense), net
              
              
              (0.3%)
              
              
              
              0.2%Income
      (loss) before income taxes
              
              
              (4.5%)
              
              
              
              1.4%Provision
      for income taxes
              
              
              0.1%
              
              
              
              0.1%Net
      income (loss)
              
              
              (4.6%)
              
              
              
              1.3%


Comparison
of the Fiscal Quarters Ended September 30, 2009 and 2008





Net
Revenue by Product Line





The following table presents fiscal
quarter net revenue by product line:




Three
      Months Ended September 30,%
      of Net
              
              
              
              
              
              %
      of Net
              
              
              Change2009
              
              
              Revenue
              
              
              2008
              
              
              Revenue
              
              
              $
              
              %(In
      thousands, except percentages)Device
      enablement
              
              $
              8,740
              
              
              
              79.8%
              
              
              $
              11,553
              
              
              
              81.3%
              
              
              $
              (2,813
              )
              
              
              (24.3%)Device
      management
              
              
              2,003
              
              
              
              18.3%
              
              
              
              1,978
              
              
              
              13.9%
              
              
              
              25
              
              
              
              1.3%Device
      networking
              
              
              10,743
              
              
              
              98.1%
              
              
              
              13,531
              
              
              
              95.2%
              
              
              
              (2,788
              )
              
              
              (20.6%)Non-core
              
              
              211
              
              
              
              1.9%
              
              
              
              681
              
              
              
              4.8%
              
              
              
              (470
              )
              
              
              (69.0%)Net
      revenue
              
              $
              10,954
              
              
              
              100.0%
              
              
              $
              14,212
              
              
              
              100.0%
              
              
              $
              (3,258
              )
              
              
              (22.9%)


The
decrease in net revenue for the three months ended September 30, 2009, compared
to the three months ended September 30, 2008 was the result of a decrease in net
revenue from our device enablement and non-core product lines.  The
decrease in our device enablement product line was due to a decrease in our
embedded device enablement products, and more specifically, our XPort, ASIC and
Micro product families and our external device enablement products, more
specifically, our UDS, MSS and XPress product families.  We are no
longer investing in the development of our non-core product lines and expect net
revenue related to these products to continue to decline in the future as we
focus our investment on our device networking product lines.




12


Net
Revenue by Geographic Region





The following table presents fiscal
quarter net revenue by geographic region:




Three
      Months Ended September 30,%
      of Net
              
              
              
              
              
              %
      of Net
              
              
              Change2009
              
              
              Revenue
              
              
              2008
              
              
              Revenue
              
              
              $
              
              %(In
      thousands, except percentages)Americas
              
              $
              6,251
              
              
              
              57.1%
              
              
              $
              8,428
              
              
              
              59.3%
              
              
              $
              (2,177
              )
              
              
              (25.8%)EMEA
              
              
              2,909
              
              
              
              26.6%
              
              
              
              3,812
              
              
              
              26.8%
              
              
              
              (903
              )
              
              
              (23.7%)Asia
      Pacific
              
              
              1,794
              
              
              
              16.3%
              
              
              
              1,972
              
              
              
              13.9%
              
              
              
              (178
              )
              
              
              (9.0%)Net
      revenue
              
              $
              10,954
              
              
              
              100.0%
              
              
              $
              14,212
              
              
              
              100.0%
              
              
              $
              (3,258
              )
              
              
              (22.9%)




All major
geographic regions contributed to the decrease in net revenue for the three
months ended September 30, 2009 compared to the three months ended September 30,
2008. The decrease in the Americas region was primarily due to the decrease in
our device enablement product lines, and more specifically, the XPort, UDS,
Micro, MSS, ASIC, EDS and XPress product families, as well a decrease in our
non-core product lines. The decrease in our EMEA (“Europe, Middle East and
Africa”) region was primarily due to a decrease in our device enablement product
lines, and more specifically, the ASIC, XPort, UDS, MSS and XPress product
families. The decrease in our Asia Pacific region was due to a decrease in our
device management product lines, and more specifically, the SLC product
family.





Gross
Profit





The following table presents fiscal
quarter gross profit:




Three
      Months Ended September 30,%
      of Net
              
              
              
              
              
              %
      of Net
              
              
              Change2009
              
              
              Revenue
              
              
              2008
              
              
              Revenue
              
              
              $
              
              %(In
      thousands, except percentages)Gross
      profit
              
              $
              5,717
              
              
              
              52.2%
              
              
              $
              7,524
              
              
              
              52.9%
              
              
              $
              (1,807
              )
              (24.0%)


Gross
profit represents net revenue less cost of revenue. Cost of revenue consisted
primarily of the cost of raw material components, subcontract labor assembly
from contract manufacturers, manufacturing overhead, amortization of purchased
intangible assets, establishing or relieving inventory reserves for excess and
obsolete products or raw materials, warranty costs, royalties and share-based
compensation.





The
decrease in gross profit margin for the three months ended September 30, 2009,
compared to the three months ended September 30, 2008 was primarily attributable
to product mix during the quarter.





Selling, General and
Administrative





Selling,
general and administrative expenses consisted of personnel-related expenses
including salaries and commissions, share-based compensation, facility expenses,
information technology, trade show expenses, advertising, and legal and
accounting fees offset by reimbursement of legal fees from insurance
proceeds.





The following table presents fiscal
quarter selling, general and administrative expenses:




Three
      Months Ended September 30,%
      of Net
              
              
              
              %
      of Net
              
              Change2009
              
              Revenue
              
              2008
              
              Revenue
              
              $
              
              
              %(In
      thousands, except percentages)Personnel-related
      expenses
              
              $
              2,398
              
              
              
              $
              2,806
              
              
              
              $
              (408
              )
              
              
              (14.5%)Professional
      fees & outside services
              
              
              616
              
              
              
              
              799
              
              
              
              
              (183
              )
              
              
              (22.9%)Advertising
      and marketing
              
              
              458
              
              
              
              
              556
              
              
              
              
              (98
              )
              
              
              (17.6%)Facilities
              
              
              328
              
              
              
              
              379
              
              
              
              
              (51
              )
              
              
              (13.5%)Share-based
      compensation
              
              
              423
              
              
              
              
              229
              
              
              
              
              194
              
              
              
              84.7%Depreciation
              
              
              133
              
              
              
              
              130
              
              
              
              
              3
              
              
              
              2.3%Bad
      debt expense (recovery)
              
              
              (5
              )
              
              
              
              (40
              )
              
              
              
              35
              
              
              
              (87.5%)Other
              
              
              269
              
              
              
              
              349
              
              
              
              
              (80
              )
              
              
              (22.9%)Selling,
      general and administrative
              
              $
              4,620
              
              42.2%
              
              $
              5,208
              
              36.6%
              
              $
              (588
              )
              
              
              (11.3%)




13




In order
of significance, the decrease in selling, general and administrative expenses
for the three months ended September 30, 2009, compared to the three months
ended September 30, 2008 was primarily due to: (i) decreased personnel-related
expenses as a result of the restructuring activities taken during the prior
fiscal year in response to the economic downturn and (ii) decreased professional
fees and advertising and marketing expenses as a result of cost cutting measures
and taking a more focused spending approach; offset by (iii) increased
share-based compensation as a result of new option and share grants related to
the fiscal 2010 share-based compensation plans.





Research
and Development





Research
and development expenses consisted of personnel-related expenses including
share-based compensation, as well as expenditures to third-party vendors for
research and development activities.





The following table presents fiscal
quarter research and development expenses:




Three
      Months Ended September 30,%
      of Net
              
              
              
              %
      of Net
              
              Change2009
              
              Revenue
              
              2008
              
              Revenue
              
              $
              
              
              %(In
      thousands, except percentages)Personnel-related
      expenses
              
              $
              973
              
              
              
              $
              1,055
              
              
              
              $
              (82
              )
              
              
              (7.8%)Facilities
              
              
              244
              
              
              
              
              248
              
              
              
              
              (4
              )
              
              
              (1.6%)Professional
      fees & outside services
              
              
              48
              
              
              
              
              48
              
              
              
              
              -
              
              
              
              0.0%Share-based
      compensation
              
              
              127
              
              
              
              
              82
              
              
              
              
              45
              
              
              
              54.9%Depreciation
              
              
              16
              
              
              
              
              18
              
              
              
              
              (2
              )
              
              
              (11.1%)Other
              
              
              77
              
              
              
              
              52
              
              
              
              
              25
              
              
              
              48.1%Research
      and development
              
              $
              1,485
              
              13.6%
              
              $
              1,503
              
              10.6%
              
              $
              (18
              )
              
              
              (1.2%)




Research
and development expenses remained consistent for the three months ended
September 30, 2009 and 2008.





Restructuring
Charges





During
the first fiscal quarter ended September 30, 2008, we implemented a
restructuring plan that included terminating 29 employees from all ranks
and across all functional groups of the Company.





The
following table presents fiscal quarter restructuring charges:




Three
      Months Ended September 30,%
      of Net
              
              
              
              
              
              %
      of Net
              
              
              Change2009
              
              
              Revenue
              
              
              2008
              
              
              Revenue
              
              
              $
              
              
              %(In
      thousands, except percentages)Restructuring
      charges
              
              $
              -
              
              
              
              0.0%
              
              
              $
              593
              
              
              
              4.2%
              
              
              $
              (593
              )
              
              
              (100.0%)
  Provision
for Income Taxes




At July
1, 2009, our fiscal 2002 through fiscal 2009 tax years remain open to
examination by the Federal and state taxing authorities.  We have net
operating losses (“NOLs”) beginning in fiscal 2002 which cause the statute of
limitations to remain open for the year in which the NOL was
incurred.




The
following table presents our effective tax rate based upon our income tax
provision:




Three
      Months EndedSeptember
      30,2009
              
              
              2008Effective
      tax rate
              
              
              2%
              
              
              
              7%




We
utilize the liability method of accounting for income taxes.  The
federal statutory rate was 34% for all periods. The difference between our
effective tax rate and the federal statutory rate resulted primarily from the
effect of our domestic losses recorded with a fully reserved tax benefit, as
well as the effect of foreign earnings taxed at rates differing from the federal
statutory rate. We record net deferred tax assets to the extent we believe these
assets will more likely than not be realized. As a result of our cumulative
losses, we provided a full valuation allowance against our domestic net deferred
tax assets for the fiscal quarters ended September 30, 2009 and
2008.




14


Liquidity
and Capital Resources





The
following table presents details of our working capital and cash:




September
      30,
              
              
              June
      30,
              
              
              Increase2009
              
              
              2009
              
              
              (Decrease)(In
      thousands)Working
      capital
              
              $
              7,138
              
              
              $
              7,423
              
              
              $
              (285
              )Cash
      and cash equivalents
              
              $
              9,120
              
              
              $
              9,137
              
              
              $
              (17
              )




In order
of significance, our working capital as of September 30, 2009 decreased as
compared to June 30, 2009, which was primarily due to: (i) a decrease in
inventory due to the timing of shipments and inventory receipts and (ii) a
decrease in accounts receivable as a result of the timing of shipments and cash
collections, offset by (iii) a decrease in accrued payroll and related expenses
due to the timing of payroll periods.  Our cash balance remained
consistent compared to the quarter ended June 30, 2009.





We
believe that our existing cash and cash equivalents and funds available from our
line of credit will be adequate to meet our anticipated cash needs through at
least the next 12 months. Our future capital requirements will depend on many
factors, including the timing and amount of our net revenue, research and
development, expenses associated with any strategic partnerships or acquisitions
and infrastructure investments, and expenses related to litigation, which could
affect our ability to generate additional cash. If cash generated from
operations and financing activities is insufficient to satisfy our working
capital requirements, we may need to raise capital by borrowing additional funds
through bank loans, the selling of securities or other means. There can be no
assurance that we will be able to raise any such capital on terms acceptable to
us, if at all. If we are unable to secure additional financing, we may not be
able to develop or enhance our products, take advantage of future opportunities,
respond to competition or continue to operate our business.





In August
2008, we entered into an Amendment to Loan and Security Agreement, which
provides for a three-year $2.0 million Term Loan and a two-year $3.0 million
Revolving Credit Facility (the “Term Loan and Revolving Credit Facility” or
“Loan Agreement”). The Term Loan was funded on August 26, 2008 and is payable in
36 equal installments of principal and monthly accrued interest. There are no
borrowings outstanding on the Revolving Credit Facility as of the fiscal quarter
end.





Borrowings
under the Term Loan and Revolving Credit Facility bear interest at the greater
of 6.25% or prime rate plus 1.25% per annum. If we achieve two consecutive
quarters of positive EBITDAS (as defined in the Loan Agreement) greater than
$1.00, and only for so long as we maintain EBITDAS greater than $1.00 at the end
of each subsequent fiscal quarter, then the borrowings under the Term Loan and
Revolving Credit Facility will bear interest at the greater of 5.75% or prime
rate plus 0.75% per annum. Upon entering into the agreement, we paid a fully
earned, non-refundable commitment fee of $35,000 and paid an additional $35,000
on the first anniversary of the effective date of the Term Loan.





The
following table presents our available borrowing capacity and outstanding
letters of credit, which were used to secure equipment leases, purchase of
materials, deposits for a building lease and security deposits:




September
      30,
              
              
              June
      30,2009
              
              
              2009(In
      thousands)Available
      borrowing capacity
              
              $
              289
              
              
              $
              426Outstanding
      letters of credit
              
              $
              971
              
              
              $
              732




As of
September 30, 2009 and June 30, 2009, approximately $656,000 and $666,000,
respectively, of our cash was held by our foreign subsidiaries in foreign bank
accounts.  Such cash may be unrestricted with regard to foreign
liquidity needs; however, our ability to utilize a portion of this cash to
satisfy liquidity needs outside of such foreign locations may be subject to
approval by the foreign subsidiaries’ board of directors.




15


Cash
Flows for the Three Months Ended





The
following table presents the major components of the consolidated statements of
cash flows:




Three
      Months EndedSeptember
      30,2009
              
              
              2008(In
      thousands)Net
      cash provided by (used in):Net
      loss (Income)
              
              $
              (499
              )
              
              $
              184Non-cash
      operating expenses, net
              
              
              745
              
              
              
              1,088Changes
      in operating assets and liabilities:
              
              
              -
              
              
              
              -Accounts
      receivable
              
              
              191
              
              
              
              1,273Inventories
              
              
              406
              
              
              
              (67
              )Contract
      manufacturers' receivable
              
              
              (28
              )
              
              
              (69
              )Prepaid
      expenses and other current assets
              
              
              11
              
              
              
              (111
              )Other
      assets
              
              
              (14
              )
              
              
              (20
              )Accounts
      payable
              
              
              172
              
              
              
              (1,320
              )Accrued
      payroll and related expenses
              
              
              (313
              )
              
              
              (808
              )Warranty
      reserve
              
              
              -
              
              
              
              7Restructuring
      reserve
              
              
              (45
              )
              
              
              (682
              )Other
      liabilities
              
              
              (152
              )
              
              
              (276
              )Net
      cash provided by (used in) operating activities
              
              
              474
              
              
              
              (801
              )Net
      cash used in investing activities
              
              
              (205
              )
              
              
              (214
              )Net
      cash (used in) provided by financing activities
              
              
              (340
              )
              
              
              1,936Effect
      of foreign exchange rate changes on cash
              
              
              54
              
              
              
              (138
              )Increase
      (decrease) in cash and cash equivalents
              
              $
              (17
              )
              
              $
              783




Cash
Flows for the Three Months Ended





Operating
activities provided cash during the three months ended September 30, 2009. This
was the result of cash provided by operating assets and liabilities and non-cash
operating expenses offset by a net loss. Significant non-cash items included
share-based compensation and depreciation. In order of significance, the changes
in operating assets and liabilities that had a significant impact on the cash
provided by operating activities included (i) a decrease in inventories due to
the timing of shipments and receipts and (ii) a decrease in accounts receivable
due to the timing of collections and linearity of sales and (iii) an increase in
accounts payable; offset by (iv) a decrease in accrued payroll and related
expenses due to the timing of payment periods and (v) a decrease in other
liabilities mainly due to a decrease in customer prepayments.





Operating
activities used cash during the fiscal quarter ended September 30, 2008. This
was the result of cash used by operating assets and liabilities, offset by net
income and non-cash operating expenses. Significant non-cash items included a
restructuring charge, share-based compensation and depreciation. In order of
significance, the changes in operating assets and liabilities that had a
significant impact on the cash used in operating activities included (i) a
decrease in accounts payable due to the pay down of vendors with the proceeds
from the term loan, (ii) a decrease in accrued payroll as a result of the timing
of payroll cycles at quarter end, and (iii) payments made against the
restructuring reserve. This was offset by a decrease in net accounts receivable
due to the timing of collections and linearity of sales.





Investing
activities used cash during the three months ended September 30, 2009 and 2008,
due to the purchase of property and equipment.





Financing
activities used cash during the three months ended September 30, 2009 due to (i)
payments for the minimum tax withholdings on behalf of employees for vested
restricted shares and (ii) payments on capital lease obligations and the term
loan; offset by (iii) proceeds from the sale of common shares through employee
stock option exercises.





Financing
activities provided cash during the fiscal quarter ended September 30, 2008.
This was due to (i) proceeds from the new term loan and (ii) the sale of common
shares through the 2000 Employee Stock Purchase Plan (the “ESPP”); offset by
(iii) repayments on capital lease obligations and the term loan.





Off-Balance
Sheet Arrangements





We did not have any off balance sheet
arrangements as of September 30, 2009.




16




Item
      4.
            Controls
      and Procedures





(a)
Evaluation of disclosure controls and procedures




We
carried out an evaluation, under the supervision and with the participation of
our management, including our Chief Executive Officer and our Chief Financial
Officer, of the effectiveness of the design and operation of our disclosure
controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Exchange Act) as of the end of our fiscal quarter. Based upon that evaluation,
our Chief Executive Officer and our Chief Financial Officer concluded that our
disclosure controls and procedures are effective in ensuring that information
required to be disclosed by us in reports that we file or submit under the
Exchange Act (i) is recorded, processed, summarized and reported within the time
periods specified in the SEC’s rules and forms and (ii) is accumulated and
communicated to our management, including our Chief Executive Officer and our
Chief Financial Officer to allow timely decisions regarding required
disclosure.




(b) Changes in internal controls over
financial reporting




There
have been no changes in our internal controls over financial reporting
identified during the fiscal quarter that ended September 30, 2009 that have
materially affected, or are reasonably likely to materially affect, our internal
control over financial reporting.




PART
II. OTHER INFORMATION





Item
      1.
            Legal
      Proceedings





The
information set forth in Note 10 to our notes to the unaudited condensed
consolidated financial statements of Part I, Item 1 of this Form 10-Q is hereby
incorporated by reference.





Item
      1A.
            Risk
      Factors





We
operate in a rapidly changing environment that involves numerous risks and
uncertainties. Before deciding to purchase, hold or sell our common stock, you
should carefully consider the risks described in this section. This section
should be read in conjunction with the consolidated financial statements and
accompanying notes thereto, and Management’s Discussion and Analysis of
Financial Condition and Results of Operations included in this Annual Report on
Form 10-K. If any of these risks or uncertainties actually occurs with material
adverse effects on Lantronix, our business, financial condition and results of
operations could be seriously harmed. In that event, the market price for our
common stock could decline and you may lose all or part of your
investment.




Our
quarterly operating results may fluctuate, which could cause our stock price to
decline.




We have
experienced, and expect to continue to experience, significant fluctuations in
net revenues, expenses and operating results from quarter to quarter. We,
therefore, believe that quarter-to-quarter comparisons of our operating results
are not a good indication of our future performance, and you should not rely on
them to predict our future performance or the future performance of our stock. A
high percentage of our operating expenses are relatively fixed and are based on
our expectations of future net revenue. If we were to experience a reduction in
revenue in a quarter, we would likely be unable to adjust our short-term
expenditures. If this were to occur, our operating results for that fiscal
quarter would be harmed. If our operating results in future fiscal quarters fall
below the expectations of market analysts and investors, the price of our common
stock would likely fall. Other factors that might cause our operating results to
fluctuate on a quarterly basis include:





·
            changes
      in business and economic conditions, including a downturn in the overall
      economy;





·
            changes
      in the mix of net revenue attributable to higher-margin and lower-margin
      products;





·
            customers’
      decisions to defer or accelerate
orders;





·
            variations
      in the size or timing of orders for our
  products;





·
            changes
      in demand for our products;





·
            fluctuations
      in exchange rates;





·
            defects
      and other product quality problems;





·
            loss
      or gain of significant customers;




17




·
            short-term
      fluctuations in the cost or availability of our critical
      components;





·
            announcements
      or introductions of new products by our
  competitors;





·
            effects
      of terrorist attacks in the U.S. and
abroad;





·
            changes
      in demand for devices that incorporate our products;
  and





·
            our
      customers’ decisions to integrate network access and control directly onto
      their platforms.




Our
business, financial condition and results of operations may be adversely
impacted by the recent worldwide financial crisis.




Recently,
general worldwide economic conditions have experienced a downturn due to the
credit conditions impacted by the sub-prime mortgage turmoil and other factors,
slower economic activity, concerns about inflation and deflation, increased
energy costs, decreased consumer confidence, reduced corporate profits and
capital spending, adverse business conditions and liquidity concerns in the
markets in which we operate, the ongoing effects of the war in Iraq, recent
international conflicts and terrorist and military activity, and the impact of
natural disasters and public health emergencies. These conditions make it
extremely difficult to accurately forecast and plan future business activities,
and they could cause U.S. and foreign businesses to slow spending on our
products and services, which would delay and lengthen sales cycles. During
challenging economic times our customers may face issues gaining timely access
to sufficient credit, which could result in an impairment of their ability to
make timely payments to us. If that were to occur, we may be required to
increase our allowance for doubtful accounts and our days sales outstanding
would be negatively impacted. We cannot predict the timing, strength or duration
of any economic slowdown or subsequent economic recovery, worldwide. If the
economy or markets in which we operate do not continue at their present levels,
our business, financial condition and results of operations will likely be
materially and adversely affected. Additionally, the combination of our lengthy
sales cycle coupled with challenging macroeconomic conditions could harm our
results of operations. When we begin to experience the benefits of an economic
recovery, the need to build new inventory to meet expanded demand, and the
expected increase in our accounts receivable, may impact our working capital
reserves.





Our
common stock may be delisted, which could significantly harm our
business.





Our
common stock is currently listed on The Nasdaq Capital Market under the symbol
“LTRX.” We currently are not in compliance with the $1.00 minimum bid price
requirement for inclusion in The Nasdaq Capital Market. We intend to appeal the
determination to the Nasdaq Panel. We note that on October 8, 2009, we filed a
definitive proxy statement that included a stockholder proposal requesting
authorization for a reverse stock split. The Company's annual meeting is
scheduled to be held on November 18, 2009. If our common stock is delisted from
The Nasdaq Capital Market, some or all of the following might be impacted,
harming our investors:





·
            the
      liquidity of our common stock;





·
            the
      number of institutional investors that will consider investing in our
      common stock;





·
            the
      number of investors in general that will consider investing in our common
      stock;





·
            the
      number of market makers in our common
stock;





·
            the
      number of analysts following our
stock;





·
            the
      availability of information concerning the trading
  prices;





·
            the
      number of broker-dealers willing to execute trades in shares of our common
      stock; and





·
            our
      ability to obtain financing for the continuation of our
      operations.




18




In
addition, if our common stock were to be delisted from The Nasdaq Capital
Market, the price of our common stock and the ability of stockholders to sell
such stock may be adversely affected. A return to the Nasdaq would require full
compliance with the initial listing requirements of the exchange.





If
a major distributor or customer cancels, reduces or delays purchases, our net
revenues might decline and our business could be adversely
affected.





The number and timing of sales to our
distributors have been difficult for us to predict. While our distributors are
customers in the sense they buy our products, they are also part of our product
distribution system. Some of our distributors could be acquired by a competitor
and stop buying product from us.





The
following table presents sales to our significant customers as a percentage of
net revenue:





Three
      Months EndedSeptember
      30,2009
              
              
              2008Top five customers(1)
              
              
              37.6%
              
              
              
              34.7%Tech
      Data
              
              
              10.8%
              
              
              
              7.4%Ingram
      Micro
              
              
              7.9%
              
              
              
              12.0%(1)
      Includes Ingram Micro and Tech Data




The loss
or deferral of one or more significant customers in a quarter could harm our
operating results. We have in the past, and might in the future, lose one or
more major customers. If we fail to continue to sell to our major customers in
the quantities we anticipate, or if any of these customers terminate our
relationship, our reputation, the perception of our products and technology in
the marketplace, could be harmed. The demand for our products from our OEM, VAR
and systems integrator customers depends primarily on their ability to
successfully sell their products that incorporate our device networking
solutions technology. Our sales are usually completed on a purchase order basis
and we have few long-term purchase commitments from our customers.





Our
future success also depends on our ability to attract new customers, which often
involves an extended selling process. The sale of our products often involves a
significant technical evaluation, and we often face delays because of our
customers’ internal procedures for evaluating and deploying new technologies.
For these and other reasons, the sales cycle associated with our products is
typically lengthy, often lasting six to nine months and sometimes longer.
Therefore, if we were to lose a major customer, we might not be able to replace
the customer in a timely manner, or at all. This would cause our net revenue to
decrease and could cause our stock price to decline.




If we fail to develop or enhance our
products to respond to changing market conditions and government and industry
standards, our competitive position will suffer and our business will be
adversely affected.




Our
future success depends in large part on our ability to continue to enhance
existing products, lower product cost and develop new products that maintain
technological competitiveness and meet government and industry standards. The
demand for network-enabled products is relatively new and can change as a result
of innovations, new technologies or new government and industry standards. For
example, a directive in the European Union banned the use of lead and other
heavy metals in electrical and electronic equipment after July 1, 2006. As
a result, in advance of this deadline, some of our customers selling products in
Europe demanded product from component manufacturers that did not contain these
banned substances. Any failure by us to develop and introduce new products or
enhancements in response to new government and industry standards could harm our
business, financial condition or results of operations. These requirements might
or might not be compatible with our current or future product offerings. We
might not be successful in modifying our products and services to address these
requirements and standards. For example, our competitors might develop competing
technologies based on Internet Protocols, Ethernet Protocols or other protocols
that might have advantages over our products. If this were to happen, our net
revenue might not grow at the rate we anticipate, or could decline.




19




Delays
in deliveries or quality problems with our component suppliers could damage our
reputation and could cause our net revenue to decline and harm our results of
operations.




We and
our contract manufacturers are responsible for procuring raw materials for our
products. Our products incorporate components or technologies that are only
available from single or limited sources of supply. In particular, some of our
integrated circuits are only available from a single source and in some cases
are no longer being manufactured. From time to time, integrated circuits used in
our products will be phased out of production. When this happens, we attempt to
purchase sufficient inventory to meet our needs until a substitute component can
be incorporated into our products. Nonetheless, we might be unable to purchase
sufficient components to meet our demands, or we might incorrectly forecast our
demands, and purchase too many or too few components. In addition, our products
use components that have, in the past, been subject to market shortages and
substantial price fluctuations. From time to time, we have been unable to meet
our orders because we were unable to purchase necessary components for our
products. We do not have long-term supply arrangements with many of our vendors
to obtain necessary components or technology for our products. If we are unable
to purchase components from these suppliers, product shipments could be
prevented or delayed, which could result in a loss of sales. If we are unable to
meet existing orders or to enter into new orders because of a shortage in
components, we will likely lose net revenues and risk losing customers and
harming our reputation in the marketplace, which could adversely affect our
business, financial condition or results of operations. We have recently
redesigned many of our products to comply with the new environmental regulation
such as the Reduction of Hazardous Substances (“RoHS”) directive. These
regulations are relatively new for our supply chain and interruptions in parts
supply due to the additional complexities and limited number of second source
supply choices could adversely impact our business.




If
we lose the services of any of our contract manufacturers or suppliers, we may
not be able to obtain alternate sources in a timely manner, which could harm our
customer relations and adversely affect our net revenue and harm our results of
operations.




We do not
have long-term agreements with our contract manufacturers or suppliers. If any
of these subcontractors or suppliers ceased doing business with us, we may
not be able to obtain alternative sources in a timely or cost-effective manner.
Due to the amount of time that it usually takes us to qualify contract
manufacturers and suppliers, we could experience delays in product shipments if
we are required to find alternative subcontractors and suppliers. Some of our
suppliers have or provide technology or trade secrets, the loss of which could
be disruptive to our procurement and supply processes. If a competitor should
acquire one of our contract manufacturers or suppliers, we could be subjected to
more difficulties in maintaining or developing alternative sources of supply of
some components or products. Any problems that we may encounter with the
delivery, quality or cost of our products could damage our customer
relationships and materially and adversely affect our business, financial
condition or results of operations.




Environmental
regulations such as the Waste Electrical and Electronic Equipment (“WEEE”) and
RoHS directives may require us to redesign our products and to develop
compliance administration systems.




Various
countries have begun to require companies selling a broad range of electrical
equipment to conform to regulations such as the WEEE and RoHS directives and we
expect additional countries and locations to adopt similar regulations in the
future. New environmental standards such as these could require us to redesign
our products in order to comply with the standards, and require the development
of compliance administration systems. We have already invested significant
resources into developing compliance tracking systems, and further investments
may be required. Additionally, we may incur significant costs to redesign our
products and to develop compliance administration systems; however alternative
designs may have an adverse effect on our gross profit margin. If we cannot
develop compliant products timely or properly administer our compliance
programs, our revenue may also decline due to lower sales, which would adversely
affect our operating results.




If
our research and development efforts are not successful, our net revenue could
decline and our business could be harmed.




If we are
unable to develop new products as a result of our research and development
efforts, or if the products we develop are not successful, our business could be
harmed. Even if we do develop new products that are accepted by our target
markets, we do not know whether the net revenue from these products will be
sufficient to justify our investment in research and development. In addition,
if we do not invest sufficiently in research and development, we may be unable
to maintain our competitive position. Our investment in research and development
may decrease, which may put us at a competitive disadvantage compared to our
competitors and adversely affect our market position.




20




We
expect the average selling prices of our products to decline and material costs
to increase, which could reduce our net revenue, gross margins and
profitability.




In the
past, we have experienced some reduction in the average selling prices and gross
margins of products, and we expect that this will continue for our products as
they mature. We expect competition to continue to increase, and we anticipate
this could result in additional downward pressure on our pricing. Our average
selling prices for our products might decline as a result of other reasons,
including promotional programs and customers who negotiate price reductions in
exchange for longer-term purchase commitments. We also may not be able to
increase the price of our products if the prices of components or our overhead
costs increase. In addition, we may be unable to adjust our prices in response
to currency exchange rate fluctuations resulting in lower gross margins. We also
may be unable to adjust our prices in response to price increases by our
suppliers resulting in lower gross margins. Further, as is characteristic of our
industry, the average selling prices of our products have historically decreased
over the products’ life cycles and we expect this pattern to continue. If any of
these were to occur, our gross margins could decline and we may not be able to
reduce the cost to manufacture our products to keep up with the decline in
prices.





Current
or future litigation could adversely affect us.





We are
subject to a wide range of claims and lawsuits in the course of our business.
For example, we recently concluded multiple securities lawsuits with our
stockholders and litigation with a former executive officer. We may have an
obligation to continue to indemnify the former executive officer and defend him
in the litigation regarding the securities violation with which he has been
charged. There is a risk that our insurance carriers may not reimburse us for
such costs. Any lawsuit may involve complex questions of fact and law and may
require the expenditure of significant funds and the diversion of other
resources. The results of litigation are inherently uncertain, and adverse
outcomes are possible.





Our products may contain undetected
software or hardware errors or defects that could lead to an increase in our
costs, reduce our net revenue or damage our reputation.





We currently offer warranties ranging
from one or two years on each of our products. Our products could contain
undetected errors or defects. If there is a product failure, we might have to
replace all affected products without being able to book revenue for replacement
units, or we may have to refund the purchase price for the units. We do not have
a long history with which to assess the risks of unexpected product failures or
defects for our device server product line. Regardless of the amount of testing
we undertake, some errors might be discovered only after a product has been
installed and used by customers. Any errors discovered after commercial release
could result in loss of net revenue and claims against us. Significant product
warranty claims against us could harm our business, reputation and financial
results and cause the price of our stock to decline.





If
software that we license or acquire from the open source software community and
incorporate into our products were to become unavailable or no longer available
on commercially reasonable terms, it could adversely affect sales of our
products, which could disrupt our business and harm our financial
results.





Certain
of our products contain components developed and maintained by third-party
software vendors or are available through the “open source” software community.
We also expect that we may incorporate software from third-party vendors and
open source software in our future products. Our business would be disrupted if
this software, or functional equivalents of this software, were either no longer
available to us or no longer offered to us on commercially reasonable terms. In
either case, we would be required to either redesign our products to function
with alternate third-party software or open source software, or develop these
components ourselves, which would result in increased costs and could result in
delays in our product shipments. Furthermore, we might be forced to limit the
features available in our current or future product offerings.





If
our contract manufacturers are unable or unwilling to manufacture our products
at the quality and quantity we request, our business could be
harmed.





We
outsource substantially all of our manufacturing to four manufacturers in Asia:
Venture Electronics Services, Uni Precision Industrial Ltd., Universal
Scientific Industrial Company, LTD and Hana Microelectronics, Inc. In addition,
two independent third party foundries located in Asia manufacture substantially
all of our large scale integration chips. Our reliance on these third-party
manufacturers exposes us to a number of significant risks,
including:





·
            reduced
      control over delivery schedules, quality assurance, manufacturing yields
      and production costs;





·
            lack
      of guaranteed production capacity or product supply;
  and





·
            reliance
      on these manufacturers to maintain competitive manufacturing
      technologies.




21




Our
agreements with these manufacturers provide for services on a purchase order
basis. If our manufacturers were to become unable or unwilling to continue to
manufacture our products at requested quality, quantity, yields and costs, or in
a timely manner, our business would be seriously harmed. As a result, we would
have to attempt to identify and qualify substitute manufacturers, which could be
time consuming and difficult, and might result in unforeseen manufacturing and
operations problems. For example, Jabil Circuit, Inc. acquired Varian, Inc. in
March 2005 and closed the facility that manufactured our products. We
transferred this production to another contract manufacturer. Moreover, as we
shift products among third-party manufacturers, we may incur substantial
expenses, risk material delays or encounter other unexpected
issues.




In
addition, a natural disaster could disrupt our manufacturers’ facilities and
could inhibit our manufacturers’ ability to provide us with manufacturing
capacity in a timely manner or at all. If this were to occur, we likely would be
unable to fill customers’ existing orders or accept new orders for our products.
The resulting decline in net revenue would harm our business. We also are
responsible for forecasting the demand for our individual products. These
forecasts are used by our contract manufacturers to procure raw materials and
manufacture our finished goods. If we forecast demand too high, we may invest
too much cash in inventory, and we may be forced to take a write-down of our
inventory balance, which would reduce our earnings. If our forecast is too low
for one or more products, we may be required to pay charges that would increase
our cost of revenue or we may be unable to fulfill customer orders, thus
reducing net revenue and therefore earnings.




Our
international activities are subject to uncertainties, which include
international economic, regulatory, political and other risks that could harm
our business, financial condition or results of operations.




The
following table presents our sales within geographic regions:




Three
      Months Ended September 30,%
      of Net
                
                
                
                
                
                %
      of Net
                
                
                Change2009
                
                
                Revenue
                
                
                2008
                
                
                Revenue
                
                
                $
                
                %(In
      thousands, except percentages)Americas
                
                $
                6,251
                
                
                
                57.1%
                
                
                $
                8,428
                
                
                
                59.3%
                
                
                $
                (2,177
                )
                
                
                (25.8%)EMEA
                
                
                2,909
                
                
                
                26.6%
                
                
                
                3,812
                
                
                
                26.8%
                
                
                
                (903
                )
                
                
                (23.7%)Asia
      Pacific
                
                
                1,794
                
                
                
                16.3%
                
                
                
                1,972
                
                
                
                13.9%
                
                
                
                (178
                )
                
                
                (9.0%)Net
      revenue
                
                $
                10,954
                
                
                
                100.0%
                
                
                $
                14,212
                
                
                
                100.0%
                
                
                $
                (3,258
                )
                
                
                (22.9%)


We expect
that international revenue will continue to represent a significant portion of
our net revenue in the foreseeable future. Doing business internationally
involves greater expense and many risks. For example, because the products we
sell abroad and the products and services we buy abroad may be priced in foreign
currencies, we could be affected by fluctuating exchange rates. In the past, we
have lost money because of these fluctuations. We might not successfully protect
ourselves against currency rate fluctuations, and our financial performance
could be harmed as a result. In addition, we use contract manufacturers based in
Asia to manufacture substantially all of our products. International revenue and
operations are subject to numerous risks, including:





·
            unexpected
      changes in regulatory requirements, taxes, trade laws and
      tariffs;





·
            reduced
      protection for intellectual property rights in some
    countries;





·
            differing
      labor regulations;





·
            compliance
      with a wide variety of complex regulatory
  requirements;





·
            fluctuations
      in currency exchange rates;





·
            changes
      in a country’s or region’s political or economic
    conditions;





·
            effects
      of terrorist attacks in the U.S. and
abroad;





·
            greater
      difficulty in staffing and managing foreign operations;
  and





·
            increased
      financial accounting and reporting burdens and
    complexities.





Our
international operations require significant attention from our management and
substantial financial resources. We do not know whether our investments in other
countries will produce desired levels of net revenues or
profitability.




We
are exposed to foreign currency exchange risks, which could harm our business
and operating results.




We hold a
portion of our cash balance in foreign currencies (particularly euros), and as
such are exposed to adverse changes in exchange rates associated with foreign
currency fluctuations. However, we do not currently engage in any hedging
transactions to mitigate these risks. Although from time to time we review our
foreign currency exposure and evaluate whether we should enter into hedging
transactions, we may not adequately hedge against any future volatility in
currency exchange rates and, if we engage in hedging transactions, the
transactions will be based on forecasts which later may prove to be inaccurate.
Any failure to hedge successfully or anticipate currency risks properly could
adversely affect our operating results.




22


If we are unable to sell our
inventory in a timely manner it could become obsolete, which could require us to
increase our reserves and harm our operating results.




At any
time, competitive products may be introduced with more attractive features or at
lower prices than ours. There is a risk that we may be unable to sell our
inventory in a timely manner to avoid it becoming obsolete.





The
following table presents the components of our inventory, including the reserve
for excess and obsolete inventory:




September
      30,
                
                
                June
      30,2009
                
                
                2009(In
      thousands)Finished
      goods
                
                $
                4,130
                
                
                $
                4,421Raw
      materials
                
                
                1,474
                
                
                
                1,537Inventory
      at distributors
                
                
                1,368
                
                
                
                1,355Large
      scale integration chips *
                
                
                841
                
                
                
                909Inventories,
      gross
                
                
                7,813
                
                
                
                8,222Reserve
      for excess and obsolete inventory
                
                
                (1,710
                )
                
                
                (1,743
                )Inventories,
      net
                
                $
                6,103
                
                
                $
                6,479
  * This
item is sold individually and embedded into our
products.




In the
event we are required to substantially discount our inventory or are unable to
sell our inventory in a timely manner, we would be required to increase our
reserves and our operating results could be substantially harmed.




We
are subject to export control regulations that could restrict our ability to
increase our international revenue and may adversely affect our
business.




Our
products and technologies are subject to U.S. export control laws, including the
Export Administration Regulations, administered by the Department of Commerce
and the Bureau of Industry Security, and their foreign counterpart laws and
regulations, which may require that we obtain an export license before we can
export certain products or technology to specified countries. These export
control laws, and possible changes to current laws, regulations and policies,
could restrict our ability to sell products to customers in certain countries or
give rise to delays or expenses in obtaining appropriate export licenses.
Failure to comply with these laws and regulations could result in government
sanctions, including substantial monetary penalties, denial of export
privileges, and debarment from government contracts. Any of these could
adversely affect our operations and, as a result, our financial results could
suffer.




If we are unable to attract, retain
or motivate key senior management and technical personnel, it could seriously
harm our business.




Our
financial performance depends substantially on the performance of our executive
officers, key technical, marketing and sales employees. We are also dependent
upon our technical personnel, due to the specialized technical nature of our
business.  If we were to lose the services of our executive officers
or any of our key personnel and were not able to find replacements in a timely
manner, our business could be disrupted, other key personnel might decide to
leave, and we might incur increased operating expenses associated with finding
and compensating replacements.




If
our OEM customers develop their own expertise in network-enabling products, it
could result in reduced sales of our products and harm our operating
results.





We sell to both resellers and
OEMs.  Selling products to OEMs involves unique risks, including the
risk that OEMs will develop internal expertise in network-enabling products or
will otherwise incorporate network functionality in their products without using
our device networking solutions. If this were to occur, our sales to OEMs would
likely decline, which could reduce our net revenue and harm our operating
results.





New
product introductions and pricing strategies by our competitors could reduce our
market share or cause us to reduce the prices of our products, which would
reduce our net revenue and gross margins.





The
market for our products is intensely competitive, subject to rapid change and is
significantly affected by new product introductions and pricing strategies of
our competitors. We face competition primarily from companies that
network-enable devices, semiconductor companies, companies in the automation
industry and companies with significant networking expertise and research and
development resources. Our competitors might offer new products with features or
functionality that are equal to or better than our products. In addition, since
we work with open standards, our customers could develop products based on our
technology that compete with our offerings. We might not have sufficient
engineering staff or other required resources to modify our products to match
our competitors. Similarly, competitive pressure could force us to reduce the
price of our products. In each case, we could lose new and existing customers to
our competition. If this were to occur, our net revenue could decline and our
business could be harmed.




23




Current
or future litigation over intellectual property rights could adversely affect
us.





Substantial
litigation regarding intellectual property rights exists in our industry. For
example, in May 2006 we settled a patent infringement lawsuit with Digi in which
we signed an agreement with Digi to cross-license each other’s patents. In
addition, we paid Digi $600,000 as part of the settlement. The results of
litigation are inherently uncertain, and adverse outcomes are possible. Adverse
outcomes may have a material adverse effect on our business, financial condition
or results of operations.





There is
a risk that other third parties could claim that our products, or our customers’
products, infringe on their intellectual property rights or that we have
misappropriated their intellectual property. In addition, software, business
processes and other property rights in our industry might be increasingly
subject to third party infringement claims as the number of competitors grows
and the functionality of products in different industry segments overlaps. Other
parties might currently have, or might eventually be issued, patents that
pertain to the proprietary rights we use. Any of these third parties might make
a claim of infringement against us. The results of litigation are inherently
uncertain, and adverse outcomes are possible.





Responding
to any infringement claim, regardless of its validity, could:




·
            be
      time-consuming, costly and/or result in
  litigation;




·
            divert
      management’s time and attention from developing our
    business;




·
            require
      us to pay monetary damages, including treble damages if we are held to
      have willfully infringed;




·
            require
      us to enter into royalty and licensing agreements that we would not
      normally find acceptable;




·
            require
      us to stop selling or to redesign certain of our products;
    or




·
            require
      us to satisfy indemnification obligations to our
  customers.





If any of
these occur, our business, financial condition or results of operations could be
adversely affected.





We
may not be able to adequately protect or enforce our intellectual property
rights, which could harm our competitive position or require us to incur
significant expenses to enforce our rights.





We have
not historically relied on patents to protect our proprietary rights, although
we are now building a patent portfolio. In May 2006, we entered into a patent
cross-license agreement with Digi in which the parties agreed to cross-license
each other’s patents, which could reduce the value of our existing patent
portfolio. We rely primarily on a combination of laws, such as copyright,
trademark and trade secret laws, and contractual restrictions, such as
confidentiality agreements and licenses, to establish and protect our
proprietary rights. Despite any precautions that we have taken:





·
            laws
      and contractual restrictions might not be sufficient to prevent
      misappropriation of our technology or deter others from developing similar
      technologies;





·
            other
      companies might claim common law trademark rights based upon use that
      precedes the registration of our
marks;





·
            other
      companies might assert other rights to market products using our
      trademarks;





·
            policing
      unauthorized use of our products and trademarks is difficult, expensive
      and time-consuming, and we might be unable to determine the extent of this
      unauthorized use;





·
            courts
      may determine that our software programs use open source software in such
      a way that deprives the entire programs of intellectual property
      protection; and





·
            current
      federal laws that prohibit software copying provide only limited
      protection from software pirates.





Also, the
laws of some of the countries in which we market and manufacture our products
offer little or no effective protection of our proprietary technology. Reverse
engineering, unauthorized copying or other misappropriation of our proprietary
technology could enable third-parties to benefit from our technology without
paying us for it. Consequently, we may be unable to prevent our proprietary
technology from being exploited by others in the U.S. or abroad, which could
require costly efforts to protect our technology. Policing the unauthorized use
of our products, trademarks and other proprietary rights is expensive, difficult
and, in some cases, impracticable. Litigation may be necessary in the future to
enforce or defend our intellectual property rights, to protect our trade secrets
or to determine the validity and scope of the proprietary rights of others. Such
litigation could result in substantial costs and diversion of management
resources, either of which could harm our business. Accordingly, despite our
efforts, we may not be able to prevent third parties from infringing upon or
misappropriating our intellectual property, which may harm our business,
financial condition and results of operations.




24




Acquisitions,
strategic partnerships, joint ventures or investments may impair our capital and
equity resources, divert our management’s attention or otherwise negatively
impact our operating results.




We may
pursue acquisitions, strategic partnerships and joint ventures that we believe
would allow us to complement our growth strategy, increase market share in our
current markets and expand into adjacent markets, broaden our technology and
intellectual property and strengthen our relationships with distributors and
OEMs. Any future acquisition, partnership, joint venture or investment may
require that we pay significant cash, issue stock or incur substantial debt.
Acquisitions, partnerships or joint ventures may also result in the loss of key
personnel and the dilution of existing stockholders as a result of issuing
equity securities. In addition, acquisitions, partnerships or joint ventures
require significant managerial attention, which may be diverted from our other
operations. These capital, equity and managerial commitments may impair the
operation of our business. Furthermore, acquired businesses may not be
effectively integrated, may be unable to maintain key pre-acquisition business
relationships, may contribute to increased fixed costs and may expose us to
unanticipated liabilities and otherwise harm our operating results.




Business
interruptions could adversely affect our business.




Our
operations and those of our suppliers are vulnerable to interruption by fire,
earthquake, power loss, telecommunications failure, terrorist attacks and other
events beyond our control. A substantial portion of our facilities, including
our corporate headquarters and other critical business operations, are located
near major earthquake faults and, therefore, may be more susceptible to damage
if an earthquake occurs. We do not carry earthquake insurance for direct
earthquake-related losses. If a business interruption occurs, our business could
be materially and adversely affected.




If we fail to maintain an effective
system of disclosure controls or internal controls over financial reporting, our
business and stock price could be adversely affected.




Section 404
of the Sarbanes-Oxley Act of 2002 requires companies to evaluate periodically
the effectiveness of their internal controls over financial reporting, and to
include a management report assessing the effectiveness of their internal
controls as of the end of each fiscal year. Beginning with our annual report on
Form 10-K for our fiscal year ended June 30, 2008, we are required to comply
with the requirement of Section 404 of the Sarbanes-Oxley Act of 2002 to include
in each of our annual reports an assessment by our management of the
effectiveness of our internal controls over financial reporting. Beginning with
our annual report on Form 10-K for our fiscal year ending June 30,
2010,  our independent registered public accounting firm will issue a
report assessing the effectiveness of our internal controls.




Our
management does not expect that our internal controls over financial reporting
will prevent all errors or frauds. A control system, no matter how well designed
and operated, can provide only reasonable, not absolute, assurance that the
control system’s objectives will be met. Further, the design of a control system
must reflect the fact that there are resource constraints, and the benefits of
controls must be considered relative to their costs. Because of the inherent
limitations in all control systems, no evaluation of controls can provide
absolute assurance that all control issues and instances of fraud, if any,
involving us have been, or will be, detected. These inherent limitations include
the realities that judgments in decision-making can be faulty and that
breakdowns can occur because of simple errors or mistakes. Controls can also be
circumvented by individual acts of a person, or by collusion among two or more
people, or by management override of the controls. The design of any system of
controls is based in part on certain assumptions about the likelihood of future
events, and we cannot assure you that any design will succeed in achieving its
stated goals under all potential future conditions. Over time, controls may
become inadequate because of changes in conditions or deterioration in the
degree of compliance with policies and procedures. Because of the inherent
limitations in a cost-effective control system, misstatements due to errors or
frauds may occur and not be detected.




We cannot
assure you that we or our independent registered public accounting firm will not
identify a material weakness in our disclosure controls and internal controls
over financial reporting in the future. If our internal controls over financial
reporting are not considered adequate, we may experience a loss of public
confidence, which could have an adverse effect on our business and our stock
price.





Item
      2.
            Unregistered
      Sales of Equity Securities and Use of
Proceeds





None.




25




Item
      3.
            Defaults
      Upon Senior Securities





None.





Item
      4.
            Submission
      of Matters to a Vote of Security
Holders





None.





Item
      5.
            Other
      Information




None.





Item
      6.
            Exhibits




ExhibitNumber
            
            Description of Document3.1
            
            Amended
      and Restated Bylaws31.1
            
            Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant
      to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
            
            Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant
      to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
            
            Certification
      of Chief Executive Officer and Chief Financial Officer Pursuant to 18
      U.S.C. Section 1350, as adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.*





*
Furnished, not filed.




26




SIGNATURES





Pursuant
to the requirements of the Securities Exchange Act of 1934, the Registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized.




Date:
      November 11, 2009
              LANTRONIX,
      INC.(Registrant)By:
              /s/ Jerry
      D. ChaseJerry
      D. ChasePresident
      and Chief Executive Officer(Principal
      Executive Officer)






By:
              /s/
      Reagan Y. SakaiReagan
      Y. SakaiChief
      Financial Officer and Secretary(Principal
      Financial Officer)


27




Exhibit
Index










ExhibitNumber
            
            Description of Document3.1
            
            Amended
      and Restated Bylaws31.1
            
            Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant
      to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
            
            Certification
      of Principal Executive Officer and Principal Financial Officer pursuant to
      Securities Exchange Act Rules 13a-14(a) and 15d-14(a), as adopted pursuant
      to Section 302 of the Sarbanes-Oxley Act of 2002.32.1
            
            Certification
      of Chief Executive Officer and Chief Financial Officer Pursuant to 18
      U.S.C. Section 1350, as adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.*





*
Furnished, not filed.







28